Since the globalization initiative in 1992, India has witnessed a growth in its money markets. Financial institutions have been employing money market instruments to finance the short-term monetary requirements of industries such as agriculture, finance and manufacturing. The Reserve Bank of India has been playing the key role of regulator and controller of such money markets. The RBI intervenes regularly to curb crisis situations, such as liquidity crunching in the markets, by reducing the cash reserve ratio or by pumping in more money.
Types of Money Market Instruments in India
Money market instruments provide for borrowers' short-term needs and gives needed liquidity to lenders. The types of money market instruments are treasury bills, repurchase agreements, commercial paper, certificates of deposit and banker's acceptance.
The government of India began issuing treasury bills in 1917. They are short-term instruments issued by the Reserve Bank of India. They are among the safest money market instruments, but the returns from this instrument are not very large. The primary as well as the secondary markets circulate this instrument. They have three-month, six-month and one-year maturity periods. Treasury bills are issued with a separate price from their face value. The face value is achieved upon maturity, as is the interest earned on the buy value. The buy value is set by a bidding process in auctions.
Repurchase agreements are also known as repos. They are short-term loans that buyers and sellers agree to sell and repurchase. As of 1992, repo transactions are allowed only between RBI-approved securities such as state and central government securities, Treasury bills, PSU bonds, FI bonds and corporate bonds. Repurchase agreements are sold by sellers with a promise to purchase them back at a given price on a given date. The buyer will also purchase the securities and other instruments in the repurchase agreement with a promise to sell them back to the seller.
Commercial paper is a promissory note that is unsecured and issued by companies and financial institutions. The notes are issued at a discounted rate to their face value. They have a fixed maturity of one to 270 days. They are issued for financing of inventories, accounts receivables and settling of short-term liabilities or loans. The notes yield higher returns than treasury bills. They are usually issued by companies with strong credit ratings, as these instruments are not backed by collateral. They are usually issued by corporations to raise working capital and are actively traded in the secondary market. The notes were first issued in the Indian money market in 1990.
Certificate of Deposit
A certificate of deposit is a short-term borrowing note, like a promissory note, in the form of a certificate. It enables the bearer to receive interest. It has a maturity date, a fixed rate of interest and a fixed value. It usually has a term of three months to five years. The funds cannot be withdrawn on demand, but it can be liquidated on payment of a penalty. The returns are higher than tresury bills as the risk is higher. Returns are based on an annual percentage yield or annual percentage rate. The certificate of deposit was first introduced to the money market of India in 1989.
A banker's acceptance is a short-term investment plan created by a company with a guarantee from a bank that a buyer will pay the seller at a future date. A good credit rating is required by the company drawing the bill. The terms for these instruments are usually 90 days, but the period can vary between 30 and 180 days. A banker's acceptance is used as a time draft for financing imports, exports and other trade